Property Insurance Coverage Law Blog : Florida Insurance Lawyer & Attorney : Merlin Law Group Law Firm : Tampa, Houston, Coral Gables, Gulfport

The Standard ISO Extra Expense provision reads as follows:

2. Extra Expense

a. Extra Expense Coverage is provided at the premises described in the Declarations only if the Declarations show that Business Income Coverage applies at that premises.

b. Extra Expense means necessary expenses you incur during the "period of restoration" that you would not have incurred if there had been no direct physical loss or damage to property caused by or resulting from a Covered Cause of Loss.

We will pay Extra Expense (other than the expense to repair or replace property) to:

(1) Avoid or minimize the "suspension" of business and to continue operations at the described premises or at replacement premises or temporary locations, including relocation expenses and costs to equip and operate the replacement location or temporary location.

(2) Minimize the "suspension" of business if you cannot continue "operations."

We will also pay Extra Expense to repair or replace property, but only to the extent it reduces the amount of loss that otherwise would have been payable under this Coverage Form.

Clearly, when an expense is incurred is just as important as the fact that it is incurred at all. The provision expressly states that extra expenses are limited to those actually incurred during a period of restoration. Most policies do not define the term “incur,” and parties often find themselves in court asking for favorable interpretations.

“Incur” is ordinarily defined as “to become liable or subject to through one's own action; [to] bring or take upon oneself.” Random House Webster's Unabridged Dictionary (1998).

This definition will typically exclude gratuitous or voluntary obligations (i.e., not otherwise helpful in reducing or minimizing the loss), which would not have been “necessary” and therefore not recoverable even though “incurred”

In Business Interruption-Coverage, Claims and Recovery, Daniel Torpey elaborates on the issue of paid vs. incurred expenses:

When a policyholder buys goods or services in connection with restoring its assets, it will likely do so under some type of financing arrangement. That expense is incurred at the time the goods or services are purchased, but it may be paid over a period of time. The expense is accrued for payment-as accounts payable-under accrual accounting at the time the obligation is incurred. When the actual payment is made, the payable balance is reduced, as is the company’s cash. Most disputes do not typically revolve around these concepts. Insurance companies generally recognize accounts payable and other accrued expenses as legitimate expenses in their loss calculations, although they often require proof of payment of those items before settling the loss.

The issue becomes significantly more complex and contentious when the dollar obligations are large and extend for a significant period beyond the time required for restoration or replacement of the damaged property.

Consider the situation of many major financial institutions after September 11, 2001. While most institutions had backup facilities for vital operations, thousands of employees were displaced by the damage or destruction of the buildings. Assuming that there would be a high demand for office space, some companies took unusual measures-from occupying entire hotels to entering in five or ten-year leases-to assure that they had sufficient temporary space to accommodate employees as quickly as possible and to minimize their business interruption losses during the reconstruction or relocation periods. As it turned out, more space was available than expected in the New York real estate market, and most institutions were able to relocate their work forces to permanent spaces fairly expeditiously. Unfortunately, these institutions then had unneeded space under long-term leases they were obligated to pay. And the soft, post 9/11 real estate market made subleasing virtually impossible.

The obligation for these leases was generally incurred during the period of indemnity for these companies, with the payment of these obligations set to occur over time. These specific issues still have no clear resolution, although most companies asserted claims for the present value of the tail on the residual lease obligations. Disagreements regarding the responsibility for paying these types of incurred, but not paid, obligations continue to be included in the ultimate negotiation of insurance and reinsurance claims. A very strong case can be made, based on insurance policies and simple logic, to support the validity of these claims. As a practical matter, the leases could be terminated – and the expense of doing so rightfully claimed-within the indemnity period.

I could not find a published court opinion that dealt specifically with long-term temporary losses incurred during the period of restoration, but the payment of which fell outside of the period. I believe that a policyholder’s efforts and money spent to resume operations swiftly and which reduce or eliminate a business income loss should be fully compensated, even if the time of actual payment for those efforts falls outside the period of restoration. Public policy should prevent an insurance company from denying coverage for legitimate and documented expenses incurred in accordance with a policyholder’s contractual obligation to mitigate its business income loss.

When the Red River flooded and inundated the city of Grand Forks, North Dakota, the entire business district suffered extensive damage. To make matters worse, the power company had not shut down power to the entire area; electrical short circuits in the system because of the rising floodwaters caused a fire that further damages substantial amounts of property in the area. As a result, city leaders redlined an area including the business district, putting off any reconstruction work until final plans could be made to construct retaining walls and take other measurements to prevent future floods.

The vast extent of the damages coupled with the relatively remote location of Grand Forks, created a situation in which there simply were not enough contractors or materials to undertake cleanup, repair, restoration, and replacement. Those factors created controversy as to what period of time was appropriate for businesses in the area to complete their recovery efforts- and by extension the period of indemnity. In one significant situation, a policyholder’s entire operations were located within three buildings inside the redlined zone. All were flood-damaged, and some had experienced fire damage as well. While the company’s representatives were able to visit the sites to assess the damages, they were unable to remove major equipment for repair or to begin other recovery efforts at the properties. When the policyholder began discussing these issues with the loss adjuster, it was distressed to learn that the insurance company’s view was that the redlining issues (which they felt were not technically “code” changes as covered under the policy) were irrelevant to the loss adjustment. Furthermore, the adjuster’s construction expert had ignored the geographic lack of resources and materials in preparing his estimates of cost and timing for reconstruction activities. Thus allowing 6-8 weeks of time element coverage from the date the flood waters receded.

The policyholder had already begun plans to move most of its operations outside the flood plain of the Red River. In the process of trying to line up architects, engineers and contractors for that purpose, the policyholder determined that it was impossible to even procure the necessary resources to begin this work within the time period allotted. At a meeting to discuss an amicable resolution, the policyholder pointed out that the redlining issues should be considered code changes because they created new rules for access to loading docks and other areas due to the soon-to-be-constructed levees and retaining walls. In addition, the policyholder made a compelling argument regarding the availability of contractors and materials. Finally, the policyholder pointed out that construction in the new location was being done using methods that were likely to reduce the actual cost of replacement of the property. The policyholder in the end was successful in negotiating a longer period of indemnity.

In the past, BI policies included broad forms of coverage that allowed policyholders to consider value of the business location by setting the Period of Restoration - the period during which BI is owed - as the hypothetical time needed to repair or replace damage property at the original location. If the policyholder relocated during that period, the insurance company got the benefit of any income earned by the substitute operations, but relocation did not end the Period of Restoration. Modern forms, however, now define the Period of Restoration as the “lesser” of the time to repair or replace the physical damage at the original location or the time at which operations are resumed at a “new permanent location.” Unfortunately, insurance companies will often use this restrictive language to devalue the policyholder's pre-loss location and cap the loss at the point of relocation, despite the fact that the loss continues at an inferior replacement location.

With respect to whether relocation is temporary or permanent, at least one court has held that if a policy does not define the term “permanent location”, the policyholder’s subjective intent may control when the period of restoration ends. Shore Pointe Enterprises, LLC v. Michigan Millers Mut. Ins. Co., 2004 WL 2914131 (Mich. App. December 16, 2004). In Shore Pointe, the insured property sustained a fire loss. The policyholder signed a lease and relocated the business at a different location for ten months, the policyholder then moved to yet another location. During litigation, the insurance carried was able to persuade the trial court that period of restoration ended when the policyholder relocated the first time. The appellate court, however, reversed the lower court’s finding and held that since the term “permanent” was not defined, the policyholder’s subjective intent created an issue of fact that precluded summary judgment in favor of the insurance company.

Defendant argues that interpreting the phrase “permanent location” from an insured's subjective viewpoint would inappropriately allow an insured to dictate the length of time it could obtain insurance coverage for business income losses “purely my moving from one location to the next, asserting each move is only temporary in nature.” However, this is a result oriented argument that lacks a reasonable connection with the ordinary meaning of the term “permanent” as used in the insurance policy. Even if the insurance policy as drafted provides an undesirable incentive for an insured to use temporary locations following a covered loss, that does not provide a legal basis for slanting construction of the term “permanent” in favor of defendant.

In sum, the issue of whether relocation is permanent or temporary is, of course, debatable. A careful reading of the policy is warranted when considering rebuilding or replacing the property at its original location or relocating the business, given the fact that the value of the business loss claim may be capped at the point of relocation.

Most commercial property policies define the “period of restoration” as the period of time that:

Begins with the date of direct physical loss or physical damage caused by or resulting from

a Covered Cause of Loss at the “scheduled” premises, and

b. Ends on the date when: (1) The property at the “scheduled premises” should be repaired, rebuilt or replaced with reasonable speed and similar quality; or

(2) The date when your business is resumed at a new, permanent location. Whichever is earlier.

The business interruption value or the coverage provided during the Period of Restoration can be calculated using either of the following methods, and both will yield the same result:

Business Interruption Value = Net Income Plus Continuing Expenses, or
Business Interruption Value = Gross Earnings Less Non-continuing Expenses

This standard methodology, however, sometimes hurts businesses with a substantial lag between the time they provide a service or sell a good and the time they get paid. Insurers are quick to argue that only losses fully realized during the Period of Restoration may be recovered, but, under such an interpretation, the insurer fails to honor its bargained for promise of fueling the business while it recovers from a loss.

Take for example a law firm that is out of business for a couple of weeks as a result of a covered peril. Those familiar with the business of practicing law will probably find it hard to calculate a business loss under the traditional formula, as it is unlikely that the law firm could perform services, bill for them and receive payment during that period.

In Pennbarr Corp. v. Insurance Co. of North America, 976 F.2d 145 (3rd Cir. 1992), the insured filed a claim under its business interruption insurance policy for the recovery of lost profits and royalties suffered as a consequence of the two earthquakes. In calculating its damages, the policyholder claimed a loss of sales equal to the production lost as a consequence of the earthquakes, approximately 14,900 typewriters. However, the claim did not allege that the loss was incurred during the actual period that its subsidiary (manufacturer) was inoperative as a result of earthquake damage. Instead, much like a law firm would if in this position, the policyholder asserted that its loss occurred during any three-month period of a date certain and argued that it could have sold the 14,900 typewriters that were not produced because inventory was depleted and it could not meet its ordinary sales obligations. The carrier denied coverage of these losses under the business interruption policy on the grounds that only losses incurred simultaneously with an interruption of business came within the clear language of the policy's indemnity period. The court unfortunately agreed with the carrier and held that an insured could only recover for any loss of sales that occurred simultaneously with interruption of production.

Conversely, in Vinyl-Tech Corp. v. Continental Cas. Co., No. 99-1053, 2000 WL 1744939 (D. Kan. Nov. 15, 2000), a manufacturing plant experienced an electrical failure which interrupted operations at the plaintiff's manufacturing plant for nine days. The carrier paid the claim for direct damage to the equipment but denied that the plant experienced any covered loss resulting from the business interruption, claiming that was able to meet all of its ordinary sales obligations by using existing inventory and that the plant had not identified any lost sales or unfilled orders occurring during the interruption period.

The defendant further argued that, under the terms of the insurance policy, lost profits are not recoverable unless they are incurred during the interruption period.  The plaintiff argued that the policy did not preclude recovery of lost profits caused by the business interruption when those losses occur shortly after production resumes and claimed that the sales from inventory, combined with the lost production, resulted reduced profits in the months after the period of restoration.

The court ruled as follows:

The court has found a question of fact concerning the amount of net profits allegedly lost. The plaintiff was able to satisfy all of its ordinary sales obligations during the interruption period from available inventory and has shown no sales that were lost nor any orders unfilled during the interruption period. Those facts do not prevent the plaintiff from showing at trial that it could have sold all of the inventory on hand when the accident occurred and all of the output it could have produced during the interruption period or that, due to business requirements, the plaintiff had to replenish its inventory after the interruption and lost profits on the production that was diverted to replenish inventory. That the amount of lost profits may not be shown precisely will not prevent recovery if the plaintiff makes the amount of its loss reasonably certain by competent evidence.

[…] A reasonable person in the insured's position would have understood the disputed terms to provide coverage for actual loss incurred within a reasonable or foreseeable time after the interruption and for extra expense incurred during the period of restoration, the court finds that such is the interpretation contemplated when the parties entered the contract.

A creative solution to this dilemma is found in Practising Law Institute Litigation and Administrative Practice Course Handbook Series:

Policyholders can attempt to address this problem at the point of sale by purchasing a form which meters the loss in a manner more consistent with the nature of the business (i.e., billable hours lost for a law firm). Most forms, for instance, measure loss for manufacturing concerns in terms of the ultimate value of the product which cannot be manufactured, and not ultimate sales lost during the Period of Restoration. At a minimum, policyholders must resist insurance company efforts to have it both ways. For instance, many insurance companies seek to take advantage of “credits” for pent-up demand after the Period of Restoration; e.g., sales of eyeglasses to persons who had simply delayed purchase until after the neighborhood eyeglass shop reopens. An insurance company should not be permitted to confine “loss” to the Period of Restoration, but then seek “credits” for amounts earned afterward.

A major expense for any organization is employee payroll and benefits (if directly related to payroll and paid by the organization: FICA payments, union dues, and workers compensation premiums) and one that must be reviewed and understood prior to loss as to the extent, if any, that should be continued during the period of restoration. An organization can decide to treat all payroll and benefits as a continuing expense and not remove it from the worksheet and thereby include all within the limit insured. Some organizations may decide that it can lay off certain employees that are not critical for the organization's recovery during the period of restoration. Each organization is different in terms of employee skills, local job markets (low or high unemployment), and cost to retain new employees when prior ones are not available for rehire.

The typical approach for most organizations is to decide what class(es) of employees should be paid during the period of restoration and which ones should not. Most insurers use the term "ordinary payroll" to define that which may be excluded totally or paid for a specific period of time (90 days, 180 days, etc.) by the named insured. Ordinary payroll is a term defined by ISO in form CP 15 10 06 07 as "payroll expenses for all your employees except: officers; executives; department managers; employees under contract; and additional Exemptions, shown in the Schedule as: Job Classifications; or employees." It is possible that certain employees by name or class may fall within the definition of "ordinary payroll" but the organization deems their contribution to be needed during the period of restoration. An exemption to the broad definition of "ordinary payroll" can be used in order to continue payroll and benefits for these key employees. ISO Form CP 15 04 06 07 Discretionary Payroll Expense is used for this purpose.

I find that an example from the National Underwriter FC&S Bulletins is always helpful in understanding the practical application of certain policy endorsements:

Business Income and Ordinary Payroll

Q

A client I handle purchased business income coverage through ISO form CP 00 30. Endorsement CP 15 10 was attached to limit coverage for ordinary payroll to six months. This insured suffered a covered loss and was partially shut down for nine months. I believe he should be allowed to recover ordinary payroll expenses during the entire nine months because the company was only partially shut down.

The insurance company has disallowed ordinary payroll expenses past the six-month time frame. Is that correct?

Ohio Subscriber

A

The standard business income form CP 00 30 provides coverage for the actual loss of business income during the "period of restoration" which, in this case, would be nine months. The form defines business income as net income that would have been earned or incurred had the loss not happened and continuing normal operating expenses incurred, including payroll. Endorsement CP 15 10 limits coverage for ordinary payroll to the period stated on the endorsement.

Since this insured limited ordinary payroll coverage with the endorsement to six months, only the amount accrued during the six-month period of the shutdown can be included in the loss settlement.

Also illustrative is the trial court’s ruling in Consolidated Companies, Inc. v. Lexington Ins. Co., 2009 WL 211751 (E.D. La. 2009). Although this opinion was vacated and remanded by an appellate court on other grounds, the trial court was affirmed on the accounting principles involving the calculation of net profits to the exclusion of ordinary payroll in a case where the business partially resumed operations to minimize its business losses:

Lexington contends that the jury award of $7,071,120 in lost profits as part of the business-interruption claim improperly compensates Conco for its ordinary payroll, which is not covered under the policy. Lexington argues that Conco's computation of its claim for lost profits, by subtracting its actual profit in the aftermath of Hurricane Katrina of $279,006 from the profit it would have otherwise earned is an “end-run” around the exclusion for ordinary payroll. Specifically, Lexington argues that, by deducting $12,900,000 of ordinary payroll in calculating actual net profit, which Conco then subtracted from “but for” profit to compute damages, Conco increased its lost-profit recovery by $12,900,000. Lexington argues that the amount of Conco's net profit after resuming operations must be calculated independently of the amount Conco spent on ordinary payroll. When net profit is calculated this way, argues Lexington, Conco suffered no covered “actual loss” under the policy.

There is no provision in the policy under the “Resumption of Operations” provision that, in calculating the actual profit or loss sustained by the insured during the period of restoration, the net profit prevented from being earned be reduced by ordinary payroll paid during the resumption period. Conco generated over $205,000,000 in revenue when it resumed operations and spent $12,900,000 of that revenue on ordinary payroll. In determining the net profit earned of $279,006, ordinary payroll was properly deducted from the revenue generated during the resumption of operations.

Most commercial property policies define the “period of restoration” as the period of time that:

Begins with the date of direct physical loss or physical damage caused by or resulting from

a Covered Cause of Loss at the “scheduled” premises, and

b. Ends on the date when: (1) The property at the “scheduled premises” should be repaired, rebuilt or replaced with reasonable speed and similar quality; or

(2) The date when your business is resumed at a new, permanent location. Whichever is earlier.

Often a commercial lessee will not obtain building coverage because the lessee does not own the leased property, but it will obtain coverage for business personal property and the equipment maintained at the leased premises. In these types of cases, commercial tenants who sustain a property loss will argue for a lengthier period of restoration by asserting that “scheduled premises” refers to the actual building in which it leases space, and therefore, the period of restoration should end when the building owner repairs, rebuilds, or replaces the building in which the damage is located. On the other hand, insurers argue that the period of restoration should end when the commercial lessee obtains new leased space and repairs, rebuilds, or replaces the business personal property that was lost.

But what if the commercial lessor takes too long to repair or restore the insured building? Should the lessor’s delay or inability to rebuild be taken into consideration in the lessee’s claim for business interruption coverage? After the terrorists attacks of 9/11, courts were asked to answer the question of whether the actions of the commercial lessor should be considered in determining the period of restoration. In general, courts held that the period of restoration should be only tied to the insured’s lease and business personal property and not to the original location of the building that housed the insured’s leased space.

Specifically, in Duane Reade, Inc. v. St. Paul Fire and Marine Ins. Co., 411 F.3d 384 (2nd Cir. 2005), the court found that there was nothing in the business interruption clause that provided site-specific coverage, i.e., to resume operations at the World Trade Center. The Court specifically stated:

It would be entirely unreasonable to interpret the Restoration Period to include the time it would take for Duane Reade to resume operations in a store located at its former site where that site was neither the subject of the insurance policy nor expressly provided for in the calculus set forth in the Restoration Period.

In Lava Trading v. Hartford Fire Ins. Co., 365 F.Supp.2d 434 (S.D.N.Y. 2005), Hartford argued that the period of restoration ended when the insured “should have” replaced its personal property and relocated with “reasonable speed and similar quality.” In contrast, the insured argued that the phrase “property at the described premises” referred to the entire World Trade Center building, and because that building could not be rebuilt within the twelve months following September 11, 2001, the period of restoration should be the maximum twelve months allowed for under the policy. The Court rejected the insured’s argument, holding that the policy did not provide coverage for the “building” in which it operated, finding that the phrase “property at the described premises” referred to the insured’s business personal property located in its rented office suite.

Notwithstanding the bright line rule established in the World Trade Center cases, courts have found that if the commercial lessee has an insurable interest over the “described premises,” the period of restoration will be tied to the restoration of the original site.

For example, in Zurich American Ins. Co. v. ABM Industries, Inc., 397 F.3d 158 (2nd Cir. 2005), the insured was a contractor who employed more than 800 people to provide maintenance, janitorial and HVAC services in the common areas of the World Trade Center. In finding in favor of the insured, the court noted that although the insured did not “own” or “lease” the common areas and the premises of the other tenants, the insured “controlled,” “used,” or “intended to use” these areas and the common areas were vital to the execution of the insured’s business purpose.

The ABM court also reasoned that “while exclusive access to an area is not necessary to ‘control’ that area, exclusivity strongly supports that ‘control’ exists.” Id. at 166-167. The court found that “ABM’s privileged relationship with, and management of, its offices, storage spaces, freight elevators, closets, and sinks indicates that it exerted power and direct influence over these premises . . .[it] ‘controlled’ its occupied properties.” Id.

In light of these legal nuances, it is important to closely look at the relationship between the lessor and the lesee to determine whether the lessor’s failure to restore the premises where the business is located can be tied to the lessee’s period of restoration.

While there is normally little debate as to when the period of restoration begins, there is often much debate as to when the period ends, since most policies limit the time period to the time that it would take to repair or replace the damage “with reasonable speed or similar quality” and return the business to its pre-loss operational capability.

In smaller losses, where the insured is able to rebuild and resume operations rather quickly, the period of recovery will be measured by the “actual time” it took to rebuild and resume operations. In large-scale or catastrophic losses, however, it may take years for an insured to resume its pre-loss operations. Many times, insureds are so financially devastated by a loss that they are unable to even attempt at resuming the business. In these cases, recovery is measured by a theoretical period of restoration, where differences of opinion are likely to take place.

When dealing with a theoretical period of restoration carriers will come up with rigid formulas to determine how long it “should” take its insured to rebuild and resume operations, but these formulas seem only to work in a vacuum as they rarely take into account “real world circumstances”, which is why many will take their battles to court.

Anchor Toy Corp. v. American Eagle Fire Insurance, 155 NYS 2d 600 (Sup. Ct. 1956) is seminal to understand theoretical periods of restoration. In Anchor Toy, the insured’s factory burned to the ground. The insured did not rebuild the site. Instead, the insured directed its energies to purchasing another factory, but the deal fell through and the insured gave up on resuming operations.

After considering expert testimony with respect to the time it would theoretically take to rebuild and resume operations, the Court then held that:

It is defendants' contention that the building to be rebuilt would be an exact duplicate of this structure. The detailed description would reduce the time to be spent on architectural services to a minimum. This premise is however at fault. The rebuilding contemplated by the policy is the replacement that would actually follow after a disaster. It is beyond the bounds of reasonable contemplation to expect that a replacement structure would ignore all progress in the art and slavishly retain any proven disadvantage. It must be the intent of the policy that the new building to be erected would be modern as well. Doubtless if an extraordinary additional time would be required to include improvements or innovations these would not be included. It would follow that an architect's services and time for their performance would be needed.

In rejecting the rigid formula that the carrier proposed, the court went on to state:

Actual construction would take twenty-two weeks. Installation of machinery was fixed at six weeks, but one week of this would coincide with the completion of the building. This totals thirty-eight weeks. This is the time it would take to replace the structure providing the building was put up by the experts in the court room. But buildings seldom are. In the field it snows, and men fall off girders, and the wrong size window glass is delivered. An estimate of eight weeks for these contingencies is not believed to be excessive.

In a recent article published by the American Bar Association titled Business Interruption Insurance: Calculation of the Period of Restoration Must be Informed by Post Loss Challenges, it was noted that:

Anchor Toy stands for the straightforward proposition that even where a property owner does not rebuild, it still may recover its business interruption loss as if it had rebuilt. This is important protection because after a major loss, businesses may face difficulties securing financing, worker attrition, a diminished market, or other challenges that stand in the way of a return to profitability. When faced with such challenges, insureds may decide that it is economically or otherwise impractical for them to repair or rebuild lost property. In such instances, the theoretical period of restoration makes insurance recovery possible. By taking into account real-world circumstances when calculating the theoretical period of restoration, however, the insured likely can obtain all the benefits due under the policy.

Another opinion that considers the challenges an insured may face after a devastating catastrophe is SR Intl. Bus. Ins Co. v. World Trade Center Properties, LLC, 2007 WL 519245 (S.D.N.Y 2007). In SR International the insured argued that in cases where the insured property was located inside the World Trade Center, the rental value claims should be computed via a “theoretical period” vis a vis the “actual time” it would take to rebuild the WTC site, as it was on the morning of 9/11.

While the Court held that the claim loss of rent claim would be valued by an appraisal panel under a “theoretical period” to rebuild as it was on the morning of 9/11, the court also stated that the panel may:

[…] indisputably may consider “real-world circumstances” such as rental market rates or vacancy statistics for the relevant time periods after 9/11 in arriving at its valuation. Such data will undoubtedly reflect a changed, post-9/11 commercial real estate market in New York. The Appraisal Panel is entitled to give that evidence whatever weight it feels it deserves. “[Although] [t]he restoration period remains theoretical ... it is not computed in a vacuum.

In sum, both opinions allow the insured to factor in “real world” contingencies in the theoretical period, which should yield a more accurate measure of recovery even in the strictest hypothesis.

The period of restoration in a business interruption claim is a concept of time. The period, as defined in most ISO forms, begins at the time of “direct physical loss or damage” and ends on the earlier of “the date when the property should be repaired, rebuilt, or replaced with reasonable speed and similar quality.” […] or “the date when the business is resumed at a new permanent location”

While there is normally little debate as to when the period of restoration begins, there is often much debate as to when the period ends, since most policies limit the time period to the time that it would take to repair or replace the damage “with reasonable speed or similar quality” and return the business to its pre-loss operational capability. This means that if an operation is suspended for four months but the premises could have been restored to operating conditions in eight weeks “with reasonable speed and similar quality,” the recovery period will probably be limited to eight weeks.

Insureds should keep in mind that returning the business to “operational capability” does not necessarily mean to return the business to pre-loss income levels, a feat which may take much longer to accomplish. Operational capability is merely the entity’s ability to produce goods and provide service at the same level, efficiency and speed as before the loss.

As a general rule, the end date of the period of restoration cuts off the loss of income and extra expense claim.

For example, in Millville Quarry v. Liberty Mutual, 31 F. App’x. 116 (4th Cir. 2002), a quarry operator maintained a system of four water pumps to remove naturally occurring excess water. The pumps were affixed to a platform and the policy only covered the pumps and the platform, but not the entire quarry. One day the quarry flooded and the pumps were lost. In order to save the quarry, the insured rented four additional pumps that were identical to the previous ones, but could not install them due to unrelated electrical problems. The quarry operator then rented additional pumps stabilized the quarry and resumed operations six months after the flood. The quarry operator filed a $9 million extra expense claim with Liberty Mutual. Liberty Mutual advanced $450,000 to the quarry operator to pay for the cost of pumping activities, but it denied the balance of the claim.

In affirming the lower court's grant of summary judgment in favor of Liberty Mutual, the court reasoned that the period of restoration imposed a “temporal rather than substantive limitation on the” policy's extra expense coverage. The court specifically noted that the period of restoration ended when the quarry operator obtained pumps that were identical in number and pumping capacity to the four that had been destroyed by the flood. Although the pumps were not operational on the date they were delivered due to the electrical problem, the court held that the pumps should have been replaced with reasonable speed and similar quality by the date of delivery and that any delay in making the replacement pumps operational did not arise out of the flood or any damage to the lost pumps. Extra expense costs incurred beyond the period of restoration, including costs for additional pumping activities, the construction of a second barge, hydrology investigations, and limestone grout work to stabilize the quarry, were denied as they were incurred outside of the period of restoration.

On the other hand, in Zurich American Insurance Co. v. ABM Industries, Inc., 2006 WL 1293360 (S.D.N.Y. 2006), a janitorial company that held a contract to clean the World Trade Center (“WTC”) submitted a claim to its carrier as a result of the September 11 attacks. ABM was a facility services contractor that provided janitorial, lighting, and engineering services in the common areas of the WTC; provided janitorial services for virtually all of the tenants in the WTC; and operated a call desk through which it provided engineering and lighting services to the WTC tenants.

Among the claimed extra expenses were (1) increased salary costs that resulted because the janitorial company was required to bump junior employees at other locations with more senior employees displaced from the World Trade Center, (2) increased unemployment insurance assessments levied by the State of New York after dozens of the company's workers filed for benefits, and (3) costs associated with the termination of engineers whose services were no longer necessary following the destruction of the buildings. The policy had a standard period of restoration provision, stating that the length of time will not exceed what “would be required with the exercise of due diligence and dispatch to rebuild, repair, or replace the property that had been destroyed or damaged.”

Following remand from the U.S. Court of Appeals for the Second Circuit, and contrary to some other WTC decisions, the district court held that “restoration of the World Trade Center itself [was] necessary for ABM to resume its operations.” In that case the court did not set a specific date for the end of the period of restoration and held that the “appropriate period of recovery is the hypothetical length of time required to rebuild the WTC”, which left the closure of the period of restoration to be determined by a jury and placed the policy's entire $50 million extra expense limit in the hands of a jury.